US Dollar Strength Amid Geopolitical Tensions and Risk Aversion
Given the heightened geopolitical tensions and resulting flight to safety, we see continued strength in the US Dollar. The USD/CAD is testing highs not seen since early 2025, and with the VIX volatility index having recently jumped over 15% to close above 22, this risk-off sentiment will likely persist. We believe any dips in the USD/CAD pair should be viewed as buying opportunities in the coming weeks. The primary driver for this outlook is the widening policy gap between the US Federal Reserve and the Bank of Canada. The spread between US and Canadian 2-year government bond yields has expanded to over 85 basis points, its widest since late 2024, as the Fed signals another rate hike while the BoC is expected to hold. This interest rate differential makes holding US dollars more attractive and should continue to push USD/CAD higher.Weak Canadian Economic Data and Limited Support from Oil Prices
On the Canadian side, recent data confirms a sluggish economy, justifying the central bank’s dovish stance. Last week’s report showing Canadian GDP contracted by 0.1% in April, the second consecutive monthly decline, solidifies our view that the Bank of Canada will prioritize growth over inflation. This fundamental weakness in the Canadian economy provides a strong bearish case for the loonie. While rising crude oil prices, with WTI now trading near $95 a barrel, would normally support the Canadian dollar, this effect is being muted. The current environment is dominated by the strong US dollar and risk aversion, a dynamic we’ve seen in the past, such as in 2014-2015, where a surging greenback can overwhelm high oil prices. Therefore, we do not expect oil’s strength to reverse the uptrend in USD/CAD. With Canadian inflation data due today and consensus forecasts pointing to a soft reading, we anticipate another catalyst for Canadian dollar weakness. A low inflation number would confirm the Bank of Canada’s passive stance and likely propel the currency pair higher. We are positioning for a potential move towards 1.4300 by purchasing out-of-the-money call options on USD/CAD with expirations in July and August to capitalize on this expected upward momentum.Start trading now — click here to create your real VT Markets account.
